THIS IS AN ARCHIVE POST. CLICK HERE FOR THE CURRENT TSP ALLOCATION GUIDE UPDATE.
So after all the Sturm und Drang of the first two and a half months of 2016, we are back to zero. The market (which I typically measure in broad strokes with the S&P 500), was down by as much as 11% year-to-date on February 11th. But five weeks later – and after a stellar rally – it is now back to break-even for the year.
There are a few things responsible for that – solid economic numbers, a rebound in oil prices, and some soothing words from the Federal Reserve.
The economic numbers I will discuss in probably more detail than you want below (but you have to put up with it since that is the very purpose of this monthly update). The nutshell, however, is that the economic recovery is continuing to trundle along, and may even be showing some signs of strengthening. That signal is coming in the area of inflation – last week’s Consumer Price Index (CPI) core numbers (which exclude gas and food prices which can be very volatile for reasons unrelated to the economy) were up 0.3%. Why is that exciting? Because that number coupled with January number made up the strongest two month period in the last decade. And a little bit of inflation is good (and make no mistake, this is just a little bit of inflation). Inflation means that companies can raise prices a little bit. Which means that they can raise wages a little bit (and they will probably be forced to as the labor market continues to slowly strengthen). Higher wages mean more money to buy stuff which means higher corporate earnings. And of course stock prices are entirely based on corporate earnings over the long term, so higher earnings mean higher stock prices which is what we want.
Oil has rebounded substantially – up 50% in the last month – although where it goes from here is anybody’s guess. If you are a big nerd like me, you may remember last Spring when oil gapped back up over $70, only to fall below $30 before the end of the year. I am not an oil analyst by any stretch, but my suspicion is that there will have to be more pain before enough US oil production goes offline for long enough for prices to find traction at this level.
And finally, the Federal Reserve met last week and didn’t do anything (like raise or lower interest rates). Which was what we expected. What we didn’t expect was for them to say: “What you see here is a virtually unchanged path of economic projections and a slightly more accommodative path.” That is Fed-speak for “We think the economy is fine, but we have belatedly realized that if we raise rates as aggressively as we kept saying we were going to, we are going to blow the entire thing up.” That means no Fed interest rate hikes in the near term, and I would guess perhaps a 50% chance that we will see another one at all before the end of this year. (Unless the inflation we talked about earlier starts to really accelerate, in which case we could potentially see them start to tighten again.)
Why is that important to us? Because money goes where it is wanted. And if you can earn 1/3 of a penny on the dollar annually in bonds, investors know their money isn’t wanted there and they are going to put it into stocks. And so I am sticking with my somewhat overly confident and simplistic line from last month: “If you can do arithmetic, you are putting your money into stocks.
TSP performance year-to-date: (through market close on 02/22/2016)
Year to date Thrift Savings Plan fund performance:
• TSP C Fund: 0.85%
• TSP S Fund: -1.90%
• TSP I Fund: -2.33%
• TSP G Fund: 0.44%
• TSP F Fund: 2.29%
And the TSP LifeCycle Funds are very average for 2016 so far (just as they are engineered to be), ranging from -0.31% to 0.44%.
Last Month’s Economic Numbers:
In this section I will discuss the key indicator data I use in determining where I think we are in the economic cycle and what that data means to me in deciding how to allocate my Thrift Savings Plan balance. (These indicators are explained in some detail in How to Determine the Current Phase of the Business Cycle.)
Employment numbers: the unemployment rate in the United States remained at 4.9 percent in February, while total non-farm payroll employment increased by 242,000. I obtain this data from the Bureau of Labor Statistics.
Purchasing Managers’ Index (PMI): as usual, I pulled up the most recent report from the Institute for Supply Management. Any number above 50 indicates growth in manufacturing, and this month’s reading of 49.5 is below that range, but above the 43.2 which indicates an expansion of the overall economy. This marked the second straight month of improvement in the PMI after six months of declines, and a sharply higher figure than last month’s 48.2:
Manufacturing contracted in February as the PMI registered 49.5 percent, an increase of 1.3 percentage points from the January reading of 48.2 percent, indicating contraction in manufacturing for the fifth consecutive month. A reading above 50 percent indicates that the manufacturing economy is generally expanding; below 50 percent indicates that it is generally contracting.
A PMI above 43.2 percent, over a period of time, generally indicates an expansion of the overall economy. Therefore, the February PMI indicates growth for the 81st consecutive month in the overall economy, while indicating contraction in the manufacturing sector.
The past relationship between the PMI and the overall economy indicates that the average PMI for January and February (48.9 percent) corresponds to a 1.8 percent increase in real gross domestic product (GDP) on an annualized basis. In addition, if the PMI for February (49.5 percent) is annualized, it corresponds to a 2 percent increase in real GDP annually.
And here’s a snapshot of the last 12 months:
Yield spreads: The yield curve flattened in February (which just means that the difference in interest rates between short term and long term bonds is not a great as it was before). Based on yield spreads, the Cleveland Fed says:
Using the yield curve to predict whether or not the economy will be in a recession in the future, we estimate the expected chance of the economy being in a recession next February at 8.82 percent, up from January’s as 6.19 percent and nearly double December’s 4.42 percent. So the yield curve is optimistic about the recovery continuing, even if it is somewhat pessimistic with regard to the pace of growth over the next year.
The shaded areas in the chart below are actual recessions:
Money supply growth rate: Money Supply M2 (which includes savings deposits, money market mutual funds and other time deposits which can be quickly converted into cash or checking deposits) increased from January to February. The growth rate is what is meaningful here, and you can see that rate slowed a bit in the chart below:
Money Supply M2 in the United States increased to 12472.80 USD Billion in February from 12418.30 USD Billion in January of 2016.
All of which leads me to believe that we remain in the Mid/Growth/Performing stage of the business cycle and so I am continuing to transition the bulk of my investments to the C Fund, which has been the best TSP fund of 2016 (while maintaining my position in the I Fund). I also believe that the probability of the US economy entering a recession in the next year is low.
Don’t forget the TSP I Fund
I don’t do a full breakdown in this space, but I watch the indicators for Japan, the UK, Germany, France and Switzerland (which comprise the bulk of the TSP I Fund) in an attempt to divine the direction that index will go over the medium and long term. The I Fund was tracking along nearly in lock-step with the TSP C and S funds over the last month until the European markets fell following yesterday’s attack in Brussels which created a little separation.
- Japan: Japan indicators summary page
- United Kingdom: UK indicators summary page
- France: France indicators summary page
- Switzerland: Switzerland indicators summary page
- Germany: Germany indicators summary page
Continued Transition to the TSP C Fund
I see no reason not to continue moving most of the remainder of my Thrift Savings Plan investments to the C Fund to reflect where I believe we are in the Business Cycle. As soon as I hit publish on this post, I will be heading to TSP.gov to conduct an inter-fund transfer and to change my allocation to 75% C Fund, 10% S Fund, 15% I Fund.
And next month I still plan to complete the transition as follows:
- April: 85% C Fund, 15% I Fund
I always try to remind readers that this is just what I am doing based on my circumstances, and isn’t a recipe for what anyone else should do with their Thrift Savings Plan. This is just food for thought, not something to mirror unless you have done your own research and considered your own circumstances.
This month’s recommended book is a new one by Jason Zweig, The Devil’s Financial Dictionary. Zweig is an investing and personal finance columnist for The Wall Street Journal. In this book, he presents the principles of finance in a very amusing way, leveling his sharp wit at the myths and gibberish which Wall Street tries to hide behind. Not a primer on investing, but for investors who already know something about the financial world it is both very entertaining and educational.
The Next Update
Unless something unexpected happens, I will send out my next update about this time next month. I send out a notification of these updates (or allocation changes during the month) to the email list which you can subscribe to here: Subscribe. If you want to see what I am reading throughout the month, I also have a twitter account to which I usually post items of interest which I have stumbled across for investors, Feds and the military a few times a week at: @TSPallocation
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